The Zaccaria Deal (I) : On modern finance and history - PowerPoint PPT Presentation

The Zaccaria Deal (I) : On modern finance and history. Eric Briys, Didier Joos de ter Beerst Congrès AFFI Poitiers, 26 juin 2006. The last twenty years of Modern Finance : « again » !.

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Miller (1986) enthusiastic paper “Financial Innovation: The Last Twenty Years and the Next” twenty years have gone by. It makes sense to see whether or not the optimistic views of Miller have been confirmed by the facts.

Four key areas, all revived by Option Pricing Theory (OPT):

OPT and new breed of derivative securities

Modelling of credit/default risk through OPT insights

Risk management: Var, ART

Real options and interaction with financing

Merton frames these developments in what he calls “Functional Finance” : History “ As If” = No History

“Telling students simultaneously that they should compute net present values using the Modigliani-Miller capital budgeting paradigm, that they should optimize the firm’s capital structure by trading off costs of distress against equity cost, and finally that they should worry about risk management amounts to pure schizophrenia and does not have the slightest intellectual foundation in modern finance theory.[…] It is a peculiarity of finance that we spend so much time on teaching about a world without frictions when everything that makes finance interesting has to do with what happens in the presence of frictions.”